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(Over)Excitement About China’s Reserves

Few things seem to get the global currency markets going these days like a stray comment on the dollar from China. So it was Monday when a newspaper published under the People’s Bank of China carried an analysis piece by a mid-ranking central bank official that said, in part, that China should increase its holdings of euro and yen in its now dollar-heavy foreign-exchange reserves.

The report contributed to the dollar’s recent woes, helping push it to $1.5064 to the euro, its weakest level in 14 months. Dealers said hedge funds and others sold the U.S. currency for the euro and yen because of the report, figuring apparently that it meant that China intends to shed dollars from its nearly $2.3 trillion in currency reserves.

Bearish bets on the dollar are hardly uncommon these days, but today’s market response sure looks like an overreaction. There’s no reason to think that the article in the Financial News foreshadows some new antidollar shift in China’s policy. Beijing has made it clear for some time that it wants to diversify the types of assets in which it invests its reserves, the composition of which is secret. And while Beijing may have been buying more non-dollar assets recently, there’s no evidence of any sharp shift in its holdings. Beijing also clearly worries that a weakening dollar is hurting the value of its holdings – just as it did last year when the dollar reached these levels. But none of that is new. And Beijing also surely recognizes that the surest way to destroy the value of those holdings would be to do anything drastic like dump its existing dollar assets into an already jittery market.

Anyway, if China’s financial leaders were to craft some secret new plot to dump the dollar, it seems unlikely they would decide to announce it in an article like Monday’s in the Financial News. The piece, titled “Thoughts on Building a Scientific and Rational Foreign-Currency Reserve Management Mechanism,” ran on the bottom left corner of the newspaper’s “Theoretics Weekly” page (page 7), and was penned by the head of research for the central bank’s sub-branch office in Harbin, one of more than 300 municipal sub-branches – not exactly the nerve center for formulation of Chinese foreign-exchange policy. (Lest there be any doubt, the author says that the article represents his own opinions.) The part of the essay discussing how China should reduce the dollar’s share of its reserves, and increase the share of euro and yen assets, comes about half way through the 2,673-character article, which also notes that it is “reasonable” for the dollar to remain China’s main reserve currency at this point – echoing other recent statements by officials and state media.

Perhaps next time an official in China repeats conventional wisdom about the dollar, currency markets won’t react like it’s a big new development. But don’t bet on it.